Court out by replacement business

When a risk insurance review is undertaken and replacement of existing business is necessary, a longstanding adviser concern has been how to ensure the recommendation is made in an appropriate way. A recent court case judgement may provide some assistance.

Background

Mr S had, for many years, held a life insurance policy with Westpac Life.

In 2010, a financial adviser and employee of a competitor bank met with Mr S to discuss his insurance needs.

The adviser recommended that Mr S replace the Westpac policy with one issued by the adviser's bank. Mr S accepted and implemented the recommendation.

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Within two years, Mr S's health deteriorated and he lodged a claim under his policy.

The insurer obtained medical evidence and concluded that Mr S had failed to meet his duty of disclosure. The insurer cancelled the policy.

Mr S commenced proceedings against the adviser alleging negligence and deceptive and misleading conduct. The trial was held and judgement made.

A review of comments made and questions posed during the trial provides an interesting insight into how some practices within the advice process might be viewed by those outside the industry.

The judgement itself provides some insight into what might be required in a recommendation that involved the replacement of an existing policy with a new one.

Interspersed with details of the trial and judgement will be author comment.

The trial

During the trial, the adviser was questioned about various aspects of the advice process that was undertaken.

(i) Preparation of the Statement of Advice (SOA)

In order to better understand how the Statement of Adviuce (SOA) was prepared, the prosecution asked a series of questions:

QUESTION "What happens in short is that the paraplanning people synthesise and distil the material you've sent through to them and put it in a form that ends up like this?"

ANSWER "With a bunch of different autotexts and things that they have a process to do so. Yes."

QUESTION "Are you seriously telling us that the system of work that you were required to work on as a representative and an employee of (your employer) was such that you didn't give individualised advice but operated under a template?"

ANSWER "There is a template that is used by paraplanning and we endeavour to make stylistic changes to that template."

QUESTION "What I am saying to you is, as difficult as it might be for you because certain things are imposed upon you, that what you were effectively called upon to do was to comply with a template rather than comply with your obligation to give individualised personal advice to the client you're dealing with."

ANSWER "Correct. I follow the process I am provided."

QUESTION "Even if in so doing there may be some compromise in the position of the prospective client?"

ANSWER "When it comes to relevant disclosures and explanations, I leave that to (my employer) and their team to develop these documents."

QUESTION "I understand your difficulty in this sense. That is, it's drummed into you that your primary duty is to your employer and your secondary duty is to your client. That's the position, isn't it?"

ANSWER "I don't agree with that."

QUESTION "Where the two conflicted, you gave effect to the duty to your employer and not to the client, didn't you?"

ANSWER "That seems to be the case in this document. But my job is to help the client with goals and objectives. That's my primary objective."

QUESTION "I understand you may have had the best motivation in the world but you are saying that you were constrained by the structure that was imposed upon you by your employer, weren't you?"

ANSWER "When it comes to the advice document, I guess you can say that you're correct in that but I have certain limitations and abilities on what I can and can't change or omit or add to with regards to the statement of advice."

QUESTION "First of all, you didn't compose it and they then check it — rather, they composed it for you, didn't they?"

ANSWER "They compose it and I check it. So I'm the last link in the chain of this document being prepared."

QUESTION "That's why I say I'm not being critical of you as to the formatting of this document. They get some information from you about your meeting, they put it together, send it back to you and what you're saying is that you're hamstrung about amendments that you can make to it, is that right?"

ANSWER "Yes."

A number of matters can be gleaned from the above:

• it is important to balance the use of templates for reasons of speed, cost effectiveness and consistency with the need to provide, and to be seen to be providing, individualised personal advice.

This is the bottom line and it should not be compromised.

• perception is also important, and how actions might be perceived and represented by others, inside and outside the financial services industry, should be considered.

If perception is potentially unfavourable, there may be merit in changing the process, for example, whilst it may be efficient to use templates and restrict document flexibility, it is inappropriate to "hamstrung" advisers. A free-form capability, if required, should be made available.

• if the process cannot reasonably be changed, consider ways to better represent the process in a factual and favourable way, for example:

"Within this document I have made use of various standard texts and templates. These are designed around situations most often encountered; however, I also carefully check and amend the document where necessary, to ensure it is geared to your individual circumstances."

During questioning, it became clear the SOA was not prepared by the adviser.

JUDGE "(The adviser) accepted properly, that the statement on (the SOA) that it was ‘Prepared by (the adviser)' was not wholly true…… he did not draft it. He did not even insert information into a template."

It is actually important to make sure what is written in the SOA is an accurate reflection of the facts; even in small areas such as who prepared the SOA as this can go to credibility and demonstrate care taken and attention to detail.

Alternative wording might be:

"Prepared by Para-planning Department, checked by (NAME OF ADVISER)"

(ii) Alternative strategies

The SOA required the adviser to provide alternative strategies to those recommended.

Two alternatives, and reasons why they were unsuitable, were provided:

• "self-insure; insufficient capital/equity to self-insure;
• full insurance review — client declined."

The judge stated, however, that "those are not alternatives in any meaningful sense."

Because Mr S had a very low net worth, the reference to self-insure was found to be an "alternative that was entirely theoretical. It is absurd to regard as a serious alternative that (the adviser) might suggest that Mr S cancel his Westpac policy and ‘self-insure.'"

Also, the fact that Mr S declined a full insurance review was not considered to be an alternate strategy but rather simply a restatement of Mr S's instructions as to the scope of the advice.

"A true alternative was necessarily, an alternative within the scope of the advice (the adviser) had been retained to provide."

"(The adviser) did not provide the two most obvious alternatives, namely, merely to take out a (new) life policy or simply maintain his Westpac Life policy. Had he provided the first alternative, and had Mr S accepted that advice, then (the adviser) would have been $385 worse off for the purposes of calculating any commission. Nor did (the adviser) advise Mr S that he could do nothing. He was not permitted to provide that advice, but had he done so and had Mr S accepted it, (the adviser) would have lost all opportunity to earn a commission."

If recommendations, alternative strategies or whatever are provided within advice documents, they must add value; there is no place for essentially meaningless space-filling statements.

Also, it appears the judge was recognising the perennial perception problem of commission, i.e. it can influence behaviour. If Mr S had been charged a fee, maybe the position would have been viewed differently.

(iii) Risk exposures

The SOA was found to have gone some way to alerting Mr S to the risks that would follow cancelling existing insurance and replacing it with new insurance; however, the judge indicated the SOA did not go far enough.

The rights given to the insurer under Section 29(3) of the Insurance Contracts Act (1984) (ICA) were not mentioned, i.e.:

"If the insurer would not have been prepared to enter into a contract of life insurance with the insured on any terms if the duty of disclosure had been complied with or the misrepresentation had not been made, the insurer may, within three years after the contract was entered into, avoid the contract."

The SOA did not make it clear that the right to avoid the policy in the same way was no longer available to Westpac because the three year period had long since expired.

The above comments show again the need to consider all matters material to the advice; in this case the importance of the legislative rights of the insurer in regards to contract avoidance.

It was deemed insufficient to simply advise Mr S about the importance of the duty of disclosure in respect of application completion; it was also necessary in respect of the replacement of existing insurance to notify the client in writing of the additional risk associated with a failure to comply with that duty.

"It was common ground that neither Mr S nor (the adviser) knew of section (29) in 2010."

If a risk is not known, it is very difficult to effectively protect against it. The client would not be expected to know details of Section 29(3) of the ICA but the adviser certainly should.

The judgement

Once questioning had concluded, the judgement was made.

The adviser owed Mr S a duty of care which included:

• "the duty to ensure the plaintiff was adequately informed of the consequences
• of potential material non-disclosure of health and related matters ….. in circumstances where he was being encouraged to transact a new policy of life insurance that was intended to be followed by the cancellation of the pre-existing policy …"

Further:

"At the heart of the matter concerning the representations made to Mr S is the assertion …. to the effect that it would be better for Mr S to have all his business, including his life insurance, with the one bank….This was asserted to have represented a better deal for Mr S when it was not…"

"In my view, that representation was misleading and deceptive because it meant that Mr S would be giving up a valuable asset, namely a life insurance policy that had remained in force and under which the right to claim in the event of innocent non-disclosure being shown was safeguarded by statute …"

The court was taking a broader view of what should be included in a product comparison and was placing a high value on the protection afforded by the ICA for policies in force for longer than three years.

…. there should have been a full explanation of the risk, rather than ‘just in a perfunctory manner in fine print in a disclosure statement that was swamped with information."

Not only was it adjudged that the explanation of the risks associated with cancelling existing insurance were deficient but this deficiency was further complicated by the ‘swamping' of information.

Many an adviser has requested shorter and more succinct SOA's. Perhaps their advice should be heeded.

In conclusion, the judgement found that several features of the SOA when taken together made the adviser's conduct deceptive and misleading. To support these findings, reference was made to the advisers response to various questions.

First, the advice assumed a price comparison of the two policies could be made and it could be assessed definitively that the recommended policy was cheaper. This assumption was false because the underwriting terms for the new policy were unknown.

It was also not possible for a comparison to be made because questioning revealed the adviser had not reviewed the Westpac policy.

QUESTION "Apart from a general familiarity with the (new insurer's) product you hadn't looked at (the Westpac policy) in the context of the plaintiff had you?"

ANSWER "No."

QUESTION "How could you then make a representation of fact that the terms and conditions f the recommended insurance policy are different to your current policy?"

ANSWER "I don't know."

Secondly, it was found that the advice was incomplete as the adviser was "forbidden by his employer" from recommending a competitor insurer's products.

QUESTIONS "What you're telling us is even in the event that you were aware of facts, matters, and circumstances that made a competitor bank's insurance company an entity that provided a product that better satisfied a person's needs, objectives, financial circumstances, and personal situation, you would not be able to recommend it to the client, that's correct, isn't it?

ANSWER "From a recommendation perspective, that is correct."

HIS HONOUR "Well, does that mean the answer is ‘Yes'"

ANSWER "Your honour if the client comes to us with one type of product and we're looking at a comparison to our own and we find that their product is more superior, we would simply offer no advice."

In these circumstances, it was considered to be misleading to advise that all considerations pointed towards cancelling the Westpac policy and applying for a policy with the new insurer.

Thirdly, the recommendation was deemed incomplete in that:

• Mr S had not been offered the option of level premium rates, which would have been cheaper in the long term; and
• the premium comparison was confined to the first year only notwithstanding the policy was intended to last for much longer.

In summary

"For the advice to be appropriate, we incline to the view that it was necessary to do much more than say that the new policy was, like for like, dollar for dollar, better value. The comparison that needed to be made was, for the reasons given above, nowhere near so straightforward."

Judgement was made in favour of Mr S and, by default, judgement was also in favour of a more robust advice process.

(Source — Commonwealth Financial Planning Ltd v Couper (2013) NSWCA 444)

P.S. My thanks to Bill Brown of Estate Forethought in Canberra for sending me details of this case.

Col Fullagar is the principal of Integrity Resolutions Pty Ltd.